We reiterated our Neutral recommendation on the world’s leading brewer Diageo Plc. (DEO), following the interim results of fiscal year 2012 published by the company.
Diageo Plc.’s first half fiscal 2012 earnings went up 16% y/y to 89 cents (55.9 pence), from 75 cents (48 pence). Strong performance of Johnnie Walker in all markets, coupled with faster penetration of the company into emerging markets around the world, led to the upswing in profit.
Net revenue (i.e. total revenue minus excise duties) was $9.2 billion (?5.7 billion) in first half of fiscal 2012, up from $8.3 billion (?5.3 billion) a year ago. Revenues reported an increase of 8%, while it increased 7% on an organic basis. Volume grew 3% y/y organically to 84.1 million equivalent units in the period.
Gross profit for first half of fiscal 2012 climbed 11.7% y/y to $5.7 billion (?3.5 billion) from $5.1 billion (?3.2 billion) a year ago.
Operating profit before exceptional items (excluding acquisitions and disposals) went up 9.9% y/y in first half of fiscal 2012 to $2.9 billion (?1.8 billion) from $2.7 billion (?1.7 billion) in the previous year.
Marketing spend was up by 10% y/y in this half, and as a percentage of net sales, it was up 40 basis points.
Diageo is one of the leading players in the global premium drinks industry. A strong portfolio of globally recognized flagship brands, including Smirnoff, Johnnie Walker, Captain Morgan, Baileys and Guinness, helps its dominant position in the market. Diageo owns the only global stout brand in the beer category, Guinness.
Moreover, the company is undertaking restructuring initiatives to reduce overhead costs and boost profitability. These initiatives include rightsizing employee strength, efforts to improve efficiencies in its operations in Scotland and Ireland.
With the start of the company’s new restructuring program in fiscal 2011, Diageo reviews its operating model with an objective to improve the effectiveness and productivity of the group’s operations and deploy resources closer to the market as well as in the geographical regions, where the potential for growth is highest. We are optimistic regarding the effectiveness of the model once it becomes operational by June 2013.
However, the recent economic downturn has adversely affected Diageo’s performance by compelling customers, who prefer lower-priced brands over premium ones, to reduce discretionary spending. The company’s key markets, Nigeria and Europe, recorded weak performance during the first half of fiscal 2012, primarily due to this phenomenon. A sluggish recovery in these markets is expected to negatively impact demand for Diageo’s premium offerings and in turn affect its top-line growth.
Further, Diageo’s business is seasonal in nature and generates a high proportion of sales during the last four months of the calendar year, which is characterized by the festive holiday season. Consequently, the company is exposed to significant risks, if the season fails to deliver expected operating performance. We thus prefer to remain on the sidelines.
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